(By Jiangyu Wang)

I. INTRODUCTION

The rapid rise of China is quickly reshaping the world economy. With an annual growth rate of 9.6 per cent during the period 1979–2005 and a double-digit trade growth rate, China is integrating itself into the world trading system and marching toward becoming an economic superpower. Indeed, it was already the fourth largest economy and the third largest trading nation in 2006.1 As Eichengreen and Tong notes, ‘‘China’s importance as an assembly platform for exports of manufactures, a destination for foreign investment, and a consumer of imported technology, raw materials and industrial goods is not a one-time shock; rather, it is an ongoing process continually reshaping the balance of global supply and demand.’’

From the perspectives of trade and development, what explains China’s remarkable growth? With respect to the nature and impact of its trade and investment policy, China remains a puzzle to many observers and continues to be a topic for heated debates. Given the volume of its foreign trade and investment, it goes without saying that China is already an open economy.3 China’s economic success has also been attributed to its openness. Not surprisingly, Pascal Lamy, the World Trade Organization’s Director-General, observes that ‘‘China was strong when it opened to the world. When the Middle Kingdom closed its door, it fell behind.’’ An OECD working paper indicates that ‘‘China’s economy has a good potential to become the world’s top exporter by the beginning of next decade owing to attractiveness to FDI, a high domestic saying rate, improvement in productivity spurred by reduced internal and external barriers to trade, and a significant surplus of labor’’ (emphasis added).

For others, China’s achievements were not resulted from trade and investment liberalization. Rather, it reflects the delicate use of protection tools.4 For example, the U.S.-China Economic and Security Review Commission (USCC) observes, in its 2006 report to U.S. congress that ‘‘China has a centralized industrial policy that employs a wide variety of tools to promote favoured industries. In particular, China has used a range of subsidies to encourage the manufacture of goods meant for export over the manufacture of goods meant for domestic consumption, and to secure foreign investment in the manufacturing sector.’’

The primary purpose of this chapter is to provide an analysis of the evolution of China’s foreign trade policy from a trade and development perspective. Examining some of the key developments in China’s trade policy and regime, it argues that neither free trade nor protection is the complete answer to development; in China’s experience, a ‘‘pragmatic’’ trade policy requires a delicate balance between liberalization and use of industrial policy to support selected economic sectors.

II. A BRIEF HISTORY OF CHINA’S PRE-REFORM FOREIGN TRADE SYSTEM

China’s international economic stance has shifted dramatically several times since 1949, experiencing periods such as dependence on the Soviet Union, absolute isolation, and opening doors to the West. Today, although China is well on the way to becoming a market economy, the institutional structure of its economic system, including the foreign trade regime, still exhibits some continuity with the previous periods before the ‘‘reform and open door’’ policy. An inspection of China’s trade policy history could help form a better understanding on how the country has been transformed from a clumsy, isolated economy to a relatively open society which is poised to undertake broader and tougher market-opening measures than most other WTO members.

The decade following the establishment of the People’s Republic of China (PRC) saw a trade pattern of dependency upon the Soviet Union. Faced in 1949 with an American coastal blockade and shortages of food in urban areas, leadership of the new communist republic decided to ‘‘lean to one side,’’ allowing the Soviet alliance to dominate both the political and economic agenda.6 This position was prompted by both ideological and practical considerations. On the ideological side, strong alliance with the USSR demonstrated ‘‘political correctness’’ and solid devotion to communism. Practically, the infant People’s Republic needed Soviet aid and protection to build the nation and forestall Western intervention. Trade in this decade was mainly conducted with the USSR and other socialist countries. The country’s imports consisted mainly of capital goods such as machines and equipment during the 1950s, while it exported primary raw materials including agricultural and mineral products.

The 1960s was a period of isolation and emerging of pragmatism in China’s international economic relations. Chinaceased ties with the Soviet Union – and naturally with the Soviet-controlled East European countries – mainly due to ideological disagreement. The open split on what was the right course of socialism also buried China’s trade and economic relations with those nations. From 1958, Chairman Mao Zedong, long uncomfortable with Soviet attempts to dictate China’s direction, took initiatives to turn the country economically inward and maintained a relatively autarkic approach to development in the next 12 years. In fact, in most of this decade China’s international economic agreement and interaction with the rest of the world were at their lowest levels in the PRC’s history, while its commitment to communist revolutionary ideas and ties with the Third World were at their peak.8 In Mao’s ‘‘great leap forward’’ strategy based on selfreliance, foreign trade was only assigned a minor role. China did, however, import great amounts of grain and other basic consumption goods in early 1960s because its own agricultural and industrial performance plummeted due to three consecutive years of natural disasters combined with misguided policies like the ‘‘Great Leap Forward.’’

The 1960s also saw the turning of China’s foreign trade policy from ideology base to a certain degree of pragmatism, as the country started to diversify its trading partners. In 1960, Zhou Enlai, China’s then Prime Minister, allowed trade withJapan, and Japan rose to become China’s top trading partner by 1965. Trade with Europe also increased dramatically asChina shifted its purchases of industrial equipment from USSR to Western suppliers. In the same time, trade with the British colony Hong Kong continued to expand.

In the 1970s, China’s domestic political and economic situation was still in a mess as the Cultural Revolution continued, but the country’s relations with the West eased as Mao’s internationalism steadily grew. Between 1970 and 1972 relations were normalized with Canada, West Germany and Japan. President Nixon visited the ‘‘red land’’ in 1972 and China gained entry into the United Nations in the same year. As political conditions eased, trade expanded dramatically: U.S.- China trade alone jumped from 5 million US dollars (USD) in 1971 to more than USD 800 million in 1973. From then on, the West, mainly including Japan, United States, Western Europe, together with Hong Kong and Singapore, would find themselves China’s top trading partners in the following three decades.

At most of the time of the pre-reform era, the Chinese foreign trade system demonstrated three major features:

First, in the organization of foreign trade, the system was completely monopolized by the state through the central government. A legacy of the Nationalist government, there were about 4600 private companies controlling one-third ofChina’s total trade in 1950. But after a few years of ‘‘socialist restructuring,’’ in 1955, only a handful of state-owned trading corporations managed about 99 per cent of foreign trade.12 Beginning in the 1950s, the government created over ten (the number varied between ten and 16 at different times) specialized foreign trade corporations, controlled by the Ministry of Foreign Trade, to deal with trade in defined product areas. The organization of these trading companies paralleled that ofChina’s government ministries handing production of certain products. For example, only the China National Chemicals Import and Export Corporation handled goods produced by state-owned factories controlled by the Ministry of Chemical Industry; the China National Cereals, Oils, and Foodstuffs Import and Export Corporation dealt with goods produced by farms and factories supervised by the Ministry of Agriculture, and so forth.

The second feature of the pre-reform system was the strategy of ‘‘import substitution’’ and trade planning. Before the late 1970s, China’s foreign trade pattern could be characterized as an extreme example of import substitutionism. As stated by a Chinese trade official in 1955, ‘‘the purpose of importing more industrial equipment from the Soviet Union is to lay the foundation of China’s industrial independence, so that in the future China can make all of the producer goods it needs and will not have to rely on imports from the outside.’’14 During the pre-reform period, China’s foreign trade was determined almost entirely by economic planning. The State Planning Commission designed trade plans covering more than 90 per cent of all imports, as well as almost all exports. Under the planning system, demand of import was planned – mainly to increase the supplies of machinery and equipment, industrial raw materials, and intermediate goods that were in short supply and needed to meet physical production targets for high-priority final goods. Exports were not used to gain wealth from international markets, but instead were perceived mainly as a means of financing imports. Once demands of imports were determined, exports sufficient to pay these imports were then identified. Goods for which domestic supplies exceeded planned demands were the most obvious potential exports. But if these were still not sufficient to finance planned imports, certainly goods for final consumption (especially consumer goods) would be cut back to free up more goods for exports.

The third feature, resulting from the second one, was that the exchange rate and relative prices, which usually constitute the essence of the foreign trade system of a market economy, were unimportant in determining the magnitude and commodity composition of China’s foreign trade.16 First, prices of all domestic products were officially fixed. Although export prices had to be the international market prices, export products were sold to those state-owned foreign trade corporations at officially established domestic prices. The difference between international markets and domestic markets thus played little or no role in determining the pattern of exports. As export product producers did not share the profits and loss (denominated in foreign exchange), they had little incentive (except for the ‘‘spirit of socialist patriotism’’) to expand production of goods for which there was strong international demand. Similarly, import prices had no direct relationship with the prices used to sell the imported products in domestic markets. Domestic prices of imported goods were determined according to those of domestic like products, with adjustment upward or downward allowed to reflect quality differences. Because imports were made only to supplement domestic productions, also because the imports were sold at non competitive prices, they presented no threats or even competition to domestic producers. In short, in such a system, inefficient domestic producers were protected. At the same time, the law of comparative advantage made no sense in the economics of China’s foreign trade system.

III. CHINA AND TRADE LIBERALIZATION

A. TRADE REFORM FROM 1978–2001

There is little doubt that, since 1978, China has conducted trade and investment liberalization on a scale which is almost unparalleled in world history. The Chinese economy has also benefited tremendously from integrating into the global trade system.

After Mao’s death, Deng Xiaoping quickly ended the country’s isolation from the rest of the world and abandoned most of the ideological measures and policies in economic areas. The Chinese Communist Party (CCP) Congress of December 1978 (Third Plenum of the Eleventh Central Committee) was a major landmark in the political and economic life of the post-Mao era, marking the initiation of the ‘‘reform and open door’’ policy. Foreign trade became a major part of this policy. Policy-makers became more receptive to the teaching of international specialization, and determined to advance China’s comparative advantages in world markets. Accordingly, China started to trade with as many countries as it could and the foreign trade system was significantly reformed. The system of foreign trade planning was gradually dismantled in the 1980s, and the framework of a decentralized, market-oriented system was gradually established.

One of the most significant reform measures was the diversification of trading rights. During the pre-reform period trading rights were exclusively limited to those ten to sixteen specialized foreign trade corporations. In the 1980s and 1990s, this system was partially transformed as a great number of other companies were authorized to conduct foreign trade. First, with the enactment of China’s foreign investment regulations in the 1980s, all foreign-invested companies automatically had the right to trade. With respect to domestic companies, the Ministry of Foreign Trade approved the creation of more than 800 separate corporations authorized to engage in foreign trade, albeit most of them were state-owned. The number of domestic companies authorized to trade increased dramatically every year, and by 2001 over 35,000 companies obtained foreign trade licenses. In addition, the number of commodities for which trading rights were limited to the specialized foreign trade corporations18 was greatly reduced. Most importantly, most trading activities of the newly approved trading companies are no longer subject to state planning.

With respect to the import regime, import planning was gradually replaced by the introduction of tariffs and complicated non-tariff barriers, which are basically the fundamental tools of market economy to control foreign trade. Before reform, tariff had little effect on the pattern of imports. Beginning in the early 1980s, as the state reduced the scope of import planning, tariffs on many products were set to block the flood of foreign goods into Chinese markets. The initial tariff rates were very high (an average of 56 per cent in 1982). In the following two decades, China launched massive tariff cuts at least ten times, reducing average MFN tariff rate to 15 per cent in 2001.

A broad array of non-tariff barriers, of which the most important ones were licenses and quotas, were used to control foreign trade in the early 1980s. As noted by Nicholas Lardy, although these measures are normally viewed as restrictions on free trade, in the Chinese context their introduction reflected liberalization of foreign trade. As market-based, less trade-restrictive measures, they were used to replace the direct planning system of all trade. Furthermore, though quotas and license on imports reached their peak in the late 1980s, trade reform in the following decade dramatically reduced the scope of these measures. By the late 1980s, 53 categories of commodities were subject to licensing requirement, constituting 46 per cent of the shares of all imports. By the end of the 1990s, however, products subject to licensing restrictions accounted for only 8.45 per cent of all imports.21 In the same period, the import substitution system was repealed. During this period of reform, China also created a variety of legal tools in foreign trade law, including antidumping, countervailing duties, and safeguard rules, all of which are widely employed by most market economies to regulate foreign trade. Significantly, this represents China’s movement from administrative governance to legal governance in the area of foreign trade.

(Edited by: China West Lawyer)